Given the high cost of tuition these days, students commonly combine several kinds of federal-only or federal-and-private loans to come up with a way to cover all of their educational costs.
Since interest rates are the lowest they’ve been in decades, it could be a smart move for a student, parent or recent graduate to consolidate all of his or her loans for the lowest rates.
What exactly is loan consolidation and how does it work? When you combine all of your student loans, the outstanding balances are rolled into one lump sum, paid off by an outside lending entity and presented as a new loan with just one total amount, the result being you only have one loan to keep track of and for which you can pay what's called a “fixed rate.”
People usually want to consolidate their student loans for one of two reasons: To lower their monthly payments or to save money in the long run.
If you want to save money over time, locking in a low interest rate as soon as possible without lengthening your repayment term is attractive, because the sooner you pay off the loan, the more you save. With federal loans, you can even make an extra payment here or there if you want, because there is no prepayment penalty. Of course, you will have to consider that your monthly payments may be the same or higher than they were before the consolidation.
To get some “wallet relief” in the short term by lowering your monthly payments, you can sometimes extend your repayment period past the typical ten-year term for federal loans. The potential drawback with this is that you will pay more in interest, because you will be making payments over a longer period of time.
Student debt consolidation can be applied to all types of educational loans:federal, direct, medical, law, state government and private. It can be applied to any number of undergraduate or graduate loans.
No matter which general approach you take, you will have to do some research and pay attention to what’s going on in your current economic climate. Federal Stafford Loans, for instance, can offer an “in-school” interest rate that is lower than your repayment rate. If you know higher rates are going to take effect in the July following a school year, you might want to consolidate before June of that year.
But, since you are given a six month grace period following graduation, you have to trade off the relief of this non-payment time with paying less in the long run, but starting your payments immediately, even if you're still in school.
Also, it pays to be scrupulous about which federal loans you consolidate. Usually, your consolidated interest rate is based on the weighted average of the rates on your current loans; that number is then rounded up to the nearest one eighth of a percent (though capped at a federal maximum). If your loan with the highest rate tacked on has a small balance, you might be best served paying it off since including it would raise the weighted average of the new consolidated rate.
Direct Loans can be consolidated through a federally approved private lender or the Department of Education. Federal loans can also be consolidated through any federally approved private lender, such as Sallie Mae. There are many loan consolidation calculators available on the Internet, free of charge, through sites like those of the United States Department of Education or Sallie Mae. And of course, private lending companies will usually compete for your business, and might be able to offer an attractive loan consolidation tailor-made just for you.